Royalty Companies Are Top Companies But Not Undervalued

Money manager Adrian Day looks at three large gold royalty companies that have reported Q1 earnings.

Franco-Nevada Corp. (FNV:TSX; FNV:NYSE, US$143.88) reported first-quarter earnings slightly better than expected, with Gold Equivalent Ounces (GEOs) up over 10% compared with a year ago. It has withdrawn its full year guidance due to the covid-related shutdown of some of its mines; about 30% of its production has been affected, primarily at Cobre Panama and Antamina. The timing of the restart in Panama is uncertain, though work is ongoing towards a restart. Another 11 assets had announced stoppages, though five of those have since resumed activities. Franco has also been hurt by the low oil price and consequent reduced production, and the company took some write-downs on its oil assets. G&amp;A costs were less than 3% of revenues in first quarter.

In two signs of confidence however, Franco paid off its remaining $80 million in debt; the company has always been debt averse. And it increased its quarterly dividend by a penny to 0.26, for its 13th consecutive annual dividend increase. Both these moves contrast with most mining companies that have drawn down on the credit facilities and cut their dividends.

The pipeline is “healthy,” with Franco looking at a wide range of assets including opportunities in base metals and bulk materials. A particular opportunity is with base metals producers, hurt by lower prices, looking to monetize precious metals by-product. Various government restrictions make on-the-ground due diligence difficult, and in the near term, we would expect smaller transactions to close first.

Debt free again, with cash available

Franco now has $200 million in cash with $1 billion undrawn on its revolver, and it has increased to $300 million the amount authorized under its “ATM,” the ability to issue small amounts of shares “at the market,” more than sufficient for any near-term transactions.

As previously announced, Pierre Lassonde has now became chairman emeritus, David Harquail chairman, and Paul Brink CEO. We have discussed this previously.

The stock fell to under $90 in March, so it has had a very strong recovery, moving to all-time highs. Trading at 5.6x book, a price-to-cash flow of 40x, well above even Franco’s historically rich valuations. Historical norms, Franco is not cheap. But it belongs in every gold investor’s portfolio.

Debt cut as one third of production affected by shutdowns

Wheaton Precious Metals Corp. (WPM:TSX; WPM:NYSE, US$43.38) reported in line with expectations, with operating cash flow up 50% on last year. It also reduced its debt, by $159 million, ending the quarter with $127 million in cash and $716 million outstanding on its revolver. It also has a $300 million ATM to raise equity. It did not update its full-year guidance, but 35% of its production has been affected by covid-shutdowns, including at Peñasquito.

The stock, at $24 in mid-March, has also experienced a strong recovery. Now trading at 3.7x book, and a price-to-cash flow of 35x, it also is not cheap.

Taking different approach, with growth ahead

Royal Gold Inc. (RGLD:NASDAQ; RGL:TSX, US$136.43) reported earnings, up 24% on year ago, slightly above expectations. It generated cash flow of $100 million, ending the quarter with $94 million in cash and $105 million in debt. After quarter end, it drew down $200 million on its revolving credit facility “as a precautionary measure.” In line with the other major royalty/streaming companies, about 30% of its production has been affected by mine shutdowns. Mt Milligan and Rainy River are returning to normal production levels, with only Peñasquito of its major assets still shut. Alone of the three, it has not withdrawn its 2020 guidance but had no update.

Construction work at Khoeomacau in Botswana, the company’s next major asset, continues, though at a reduced scale because of local restrictions. Royal has made its third construction contribution, and production is still scheduled for mid-2021. Like the others, it did not update its full year guidance.

From under $70 in March, the stock has also had a very strong move, now trading at 4x book, and 28x cash flow. Though not cheap, it is comparatively better value.

All three large royalty and streamers reported strong earnings. All have strong management, solid balance sheets, available cash, diversity of revenue, and deep pipelines. But all three stocks are expensive. As mentioned above, as the gold price moves higher, more and more investors, particularly generalists, will turn to the royalty companies that have strong records of delivering. So while this may be a good time to trim if one wants to be a trader, a year or two from now, the stocks will, I believe, be higher. Franco is, in my mind, the best company, while Royal is the least overvalued.

Originally posted on May 10, 2020.

Adrian Day, London-born and a graduate of the London School of Economics, heads the money management firm Adrian Day Asset Management, where he manages discretionary accounts in both global and resource areas. Day is also sub-adviser to the EuroPacific Gold Fund (EPGFX). His latest book is “Investing in Resources: How to Profit from the Outsized Potential and Avoid the Risks.”

Disclosure:
1) Adrian Day: I, or members of my immediate household or family, own securities of the following companies mentioned in this article: Franco-Nevada and Royal Gold. I personally am, or members of my immediate household or family are, paid by the following companies mentioned in this article: None. My company has a financial relationship with the following companies mentioned in this article: None. Funds controlled by Adrian Day Asset Management hold shares of the following companies mentioned in this article: All. I determined which companies would be included in this article based on my research and understanding of the sector.
2) The following companies mentioned in this article are billboard sponsors of Streetwise Reports: None. Click here for important disclosures about sponsor fees. The information provided above is for informational purposes only and is not a recommendation to buy or sell any security.
3) Statements and opinions expressed are the opinions of the author and not of Streetwise Reports or its officers. The author is wholly responsible for the validity of the statements. The author was not paid by Streetwise Reports for this article. Streetwise Reports was not paid by the author to publish or syndicate this article. Streetwise Reports requires contributing authors to disclose any shareholdings in, or economic relationships with, companies that they write about. Streetwise Reports relies upon the authors to accurately provide this information and Streetwise Reports has no means of verifying its accuracy.
4) This article does not constitute investment advice. Each reader is encouraged to consult with his or her individual financial professional and any action a reader takes as a result of information presented here is his or her own responsibility. By opening this page, each reader accepts and agrees to Streetwise Reports’ terms of use and full legal disclaimer. This article is not a solicitation for investment. Streetwise Reports does not render general or specific investment advice and the information on Streetwise Reports should not be considered a recommendation to buy or sell any security. Streetwise Reports does not endorse or recommend the business, products, services or securities of any company mentioned on Streetwise Reports.
5) From time to time, Streetwise Reports and its directors, officers, employees or members of their families, as well as persons interviewed for articles and interviews on the site, may have a long or short position in securities mentioned. Directors, officers, employees or members of their immediate families are prohibited from making purchases and/or sales of those securities in the open market or otherwise from the time of the interview or the decision to write an article until three business days after the publication of the interview or article. The foregoing prohibition does not apply to articles that in substance only restate previously published company releases. As of the date of this article, officers and/or employees of Streetwise Reports LLC (including members of their household) own securities of Franco-Nevada and Royal Gold, companies mentioned in this article.

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